Monday, August 29, 2016

So far, my criticisms
have been directed to the pro-97 camp – to claims like Gov. Brown’s that “there
is a basic unfairness in our tax system that makes working families pay an
increasing share for state and local services.” Not
so. Oregon has long had one of the US’s least regressive state and local
tax systems and recent changes have increased its progressivity. For example,
the state already has the nation’s highest capital-gains tax rate. And, even if
it were so, Measure 97 wouldn’t make the tax system fairer, but would cause
‘working families’ to pay more for government services and to pay for them more
regressively.

I acknowledge that most of the claims I have criticized are at
least somewhat arguable – mostly wrong, not Pinocchios. For example, the
pro-camp claims that some of the $3 billion or so that Measure 97 will collect
each year “will
come out of CEO pay, some out of dividends, some out of consumers in other
states.” But, they acknowledge, “Some
will come from some of us.” That’s basically the position of the Legislative
Revenue Office, except that they estimate that the “some [that] will come from
some of us” is about 2/3 the total, that most of the rest will be shifted to
the IRS, with the remainder borne by shareholders (about $200 million a year,
which is enough to explain a lot of opposition) and corporate employees (about
$100 million).

Think what it would look like, were Measure 97 truly a tax
on corporations: total Oregon profits run about $20 billion a year. The share
earned by C-corps, the only businesses subject to the tax under Measure 97, is
about half that, or $10 billion, of which 70 percent comes from corporations
with more than $25 million a year in Oregon sales, or about $7 billion, from
whom the state currently collects about $375 million a year. If Measure 97 were
to increase the tax take from these corporations by $3 billion a year, we would
be talking about an average effective state corporate income tax (CIT) rate of nearly
50 percent – five times the highest state CIT rate in the US. Because gross
receipts taxes are recorded as ordinary expenses and reduce ‘‘earnings from
operations,’’ remittances to the state would cut federal CIT obligations by
about $1 billion (given the 35 percent federal CIT rate), but, even so, this implies
an average combined CIT rate of over 60 percent. Bizarrely, however, this tax only hits
businesses with low profit rates (as a proportion of turnover); really high
profit businesses would continue to be unaffected by it. How credible is that?
And, if it’s credible, imagine what this could do to the state’s economy.

This is also an area where Measure 97’s opponents have
crossed the line. Many of them condemn Measure 97 as unfair because unprofitable
businesses, which appear to have no ability to pay, are nonetheless obliged to
pay the tax. They express similar concerns with respect to low-margin,
high-turnover businesses, for example, grocery stores. However, as Fox,
Luna, and Murray observe, economists generally do not share these concerns,
“because the base is not intended to be profits and the tax is likely shifted
forward to consumers.” Arguably, these anti-claims merely take the pro-side’s
argument about who pays seriously, but it’s probably not how this would play
out.

Of course, gross receipts taxes, like most taxes, create tax
wedges. In this instance the wedges affect both interstate and intrastate commerce.
They arise because some of the goods and services providers that are subject to
the tax must compete with those that are not. This may induce them to shift
activities out of state or to purchase out-of-state inputs to avoid the tax. Compared
with a retail-sales tax say, Measure 97’s distortions are potentially more
severe, both because of pyramiding and because of the discrepancy between the tax
rate faced by C-corps (2.5 percent) and the implicit rate (zero) faced by pass-through
entities. But this looks to be a matter of degree, not of kind.

Measure 97’s supporters make a big deal of the fact that
only about a 1,000 businesses will be directly affected by it: “It
will raise taxes on only the largest corporations, affecting one-quarter of 1
percent of the companies doing business in Oregon.” (Of course, many more,
probably most, will be indirectly affected by it through their supply chains –
for example, most businesses in the state will face higher utility costs). However,
$3 billion doesn’t grow on trees – to give some idea of the magnitude of what
we are talking about here, that’s
about what a 6.5 percent retail sales tax would produce. If the businesses
affected by Measure 97 weren’t major players in the state’s economy, a 2.5
percent tax wouldn’t yield $3 billion. They are, The 1,000 corporations directly
affected by Measure 97 employ 40 percent of the state’s business labor force, account
for over half of the state’s value added and over half of its private-sector
wages. In other words, they comprehend the state’s most productive enterprises
and those that pay the best salaries.

Following up on the last point, in performing its analysis
of the effects of Measure 97, both the Legislative Reference Office and the
analysts at PSU presumed that the financial services industry would be largely
unaffected by it. That is the case for two reasons. First, this industry is
heavily weighted to pass-through entities, which are exempt from the gross
receipts tax under Measure 97 (see Figure 4 from Owen
Zidar).

Second, both explicitly assumed that Oregon would exclude
the sale of real property, investment receipts, including interest, dividends,
and capital gains, and sales of financial instruments, including bonds,
mortgages, debentures, etc., in calculating gross receipts. Consequently, most
financial service companies would only be on the hook for their management fees.
And, given that the gross receipts tax under Measure 97 is an alternative
minimum tax and that, where financial transactions are excluded, financial
service companies tend to be high-margin, low-turnover businesses, this means
that, for the most part, they will be unaffected by Measure 97 – C-corps in the
financial services industry tend to pay fairly high corporate income taxes now,
they would continue to do so under Measure 97.

Excluding sales of financial instruments is standard
practice where financial services are concerned, since financial transactions
vastly exceed state product. This issue hadn’t come up in Oregon previously because
it’s irrelevant to defining the corporate-income tax base or to determining the
existing alternative minimum tax, which is capped at $100 thousand. But it is
inconceivable that the legislature wouldn’t address this issue if Measure 97
were to pass. Otherwise the results could be pretty scary. Interestingly, there
is one financial service industry where this exclusion typically doesn’t apply,
insurance. Presumably, Measure 97’s gross receipts tax would apply to insurance
premiums purchased by Oregonians – indeed, the LRO estimates that 20 biggest
insurers doing business in Oregon would see their state tax remittances
increase from average of $200,000 to $3.5 million per annum.

This quasi-anomaly is partly due to the distinction between
apportionment on the basis of “market” or “activity.” Oregon’s CIT
apportionment is currently governed by the taxpayer’s principal business
activity (PBA) code on their federal tax returns – and these codes are largely
based on the NAICS code, which classifies business activities as goods or
services – goods are currently apportioned on a market basis (defined in terms
of their customers location) and services on an activity basis (where the bulk
of the work is performed). Consequently, PBA codes control which apportionment
method applies to a taxpayer when computing Oregon’s business tax. Most finance
services, for example, take a service code. However, this isn’t necessarily the
case. Grant Thornton offers the following illustration: “A company that
processes financial transactions using advanced technology has all of its
employees located in Oregon. It determines for Oregon tax purposes that a
‘technology’ NAICS code is most appropriate. Businesses that use the
‘technology’ code apportion receipts to Oregon based on the location of the
business’s customers, which often results in apportionment of less than 100
percent.” In contrast, if the company chooses a ‘financial’ code, the apportionment
percentage would be based on the company’s payroll in Oregon, which for this
business would be 100 percent. However, because the federal PBA code disclosure
doesn’t affect the computation of federal tax, the feds don’t require businesses
to choose a code with any precision or consistency (one important caveat aside,
where the selection of NAICS codes affects tariffs paid on goods/services
crossing international borders, customs authorities strictly constrain gaming
by multinational corporations of NAICS codes) – this is important because state
administration of income taxes piggybacks on federal reporting, and playing
with these codes is one of the ways that C-corps currently shift their tax
liabilities away from higher-tax jurisdictions, like Oregon, to those with
lower CIT rates, like Washington.

Gov. Brown has proposed to fix this anomaly, should Measure
97 pass, by basing all business taxes on the location of the customer buying
the service, rather than the location of the company selling the service. Unfortunately, the state doesn’t have a
mechanism for tracking in-state sales or following them back up the value chain.
Right now, we pretty much rely on businesses to tell us what their Oregon sales
are. Unfortunately, it is easy for businesses with out-of-state sales to fiddle
this figure. Indeed, our inability to track in-state sales is one reason for
Measure 67’s adoption of dollar limits for its alternative minimum tax.
Consequently, the claim made by the pro-97 camp, that, because the measure targets
sales rather than profits, businesses will find it harder to avoid Measure 97
taxes, may, in fact deserve a couple of Pinocchios.

Monday, August 1, 2016

Is it true, as asserted by OCPP
and Our
Oregon, “that businesses benefited greatly from seismic changes to Oregon’s
property tax system in the 1990s,” which caused a “shift in property taxes away
from businesses and onto households.” This claim is an important part of the
justification for IP-28 (Measure 97?), at least insofar as enactment of this
measure is supposed to redress corporate tax gains made at the expense of the
citizenry at large, but, in fact, it is probably not true that businesses
benefited disproportionately from Measures 5 and 50.

It is also certain that in
2014-15 taxes on residential properties accounted for the lion’s share of
property-tax payments, about 57.6 percent, and for about the same share of the
state’s net assessed property value. However, it is also certain that Measure
50 caused assessed value to deviate from real market value (or, perhaps, more
correctly restored the discrepancies between assessed value and real market
value that were commonplace before Measure 5) – over time the faster the growth
in real market value, the greater the discrepancy. Evidently, the real market
value of residential property has grown faster than the values of other kinds
of property. As a result, the average effective tax rate (tax payments/real
market value) on residential property is only now 1.06 percent and on owner
occupied housing it’s even lower, while the effective tax rate on all other
property is significantly higher at 1.32 percent.[1] If
anything, this suggests that Oregon’s current property tax system is biased in
favor of the owners of residential properties rather than businesses, although
the fact that businesses get more than half of the property tax exemptions
granted by state and local jurisdictions offsets this bias somewhat.

Finally, it is certain that,
over time, residential real-estate wealth has assumed an increasing portion of
the burden of the property tax. Prior to Measures 5 and 50, owners of
residential properties remitted less than 45 percent of all property tax
payments; today they pay well over half.

However, it is by no means certain that this is due to
Measures 5 and 50. It is entirely possible, for example, that the real cause is
Oregon's
system of land-use regulation, which has, over time, increased
residential real estate values faster than it has commercial real estate values.
One interpretation of the figure above is that the shift, which OCPP attributes
to Measures 5 and 50, is simply the result of long-term trends in the relative growth
and value of residential real estate, which would have occurred even if
Measures 5 and 50 had never happened. This view is entirely consistent with the
conventional wisdom, which holds that, by tying residential property taxes directly
to booming real market values, Measure 5 inadvertently gave businesses
(commercial, industrial property owners) a lot more tax relief than it gave
homeowners, that Measure 50’s cuts were aimed at redressing this imbalance and,
that, by rolling back residential property tax assessments and restraining
assessment growth, they were largely successful.

Other property tax considerations
relevant to IP-28

Most local jurisdictions have compensated for the loss of
property-tax revenue wrought by Measures 5 and 50 by increasing user fees. Consequently,
to the plurality of economists who see property taxes, at least those levied in
support of local services (which may or may not include public schools), as
user fees, this shift is largely a matter of complete indifference. Furthermore,
most of the increased user fees are remitted by businesses, which suggests that,
even if Measures 5 and 50 had had the effect of shifting a portion of the
burden of property taxes from businesses to residences, user fee increases
probably more than made up for the difference (although, as is the case with
property taxes, the ultimate incidence of certain of those user fees remains
somewhat unsettled, so that is by no means necessarily the case).

There are two important caveats
that should be raised here. First, these conclusions do not apply to public
schools. Instead, Measure 5 shifted responsibility for school funding from
local districts to the state, which has failed to fully offset the effects of
Measures 5 and 50, and, over the past 15 years, the state has allowed things to
get progressively worse. Second, the state has imposed property-tax rate caps
on local tax districts in a dozen or so counties that are not subject to
Measure 5 compression (i.e., have combined statutory rates of less than 1.5
percent). Those caps have caused a lot of unnecessary hardship and are stupid.

[1]I calculated an effective tax rate for industrial and
business and commercial property as well, 1.41 percent. However, for that
purpose I used a different data set, from the census rather than from the DoR,
which may or may not be consistent with the figures reported above.

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